$300m dividend as Sotheby’s shareholder power hits home

Sotheby’s board have acted to fend off criticism from shareholders led by hedge fund billionaire Daniel Loeb by saying they will issue a $300m special dividend in March.

The announcement is the culmination of
a capital allocation and financial policies review launched in
September following a stinging rebuke from Mr Loeb, chief executive
of Third Point, Sotheby's largest shareholder, which now has a
stake of just under 10% of the company.

In a letter to Sotheby's chief
executive and chairman Bill Ruprecht at the beginning of last
October, in which he urged him to stand down from his positions on
the board, Mr Loeb argued that the way the company was being
managed failed to create adequate shareholder value.

Mr Ruprecht and his fellow directors
countered instantly by issuing shareholders with new rights to
acquire company stock, in what is known as a 'poison pill'
manoeuvre, to block any bid by Third Point or others to take over
the auction house.

However, they also attempted to soften
the dose by announcing the capital allocation and financial
policies review, which has also now resulted in Sotheby's
establishing separate capital structures for the firm's two primary
businesses: the auction/private sales business and financial
services. Each business will have clear targets for investor
return, reportedly of 15% for the first and 20% for the
second.

One of the issues at the heart of the
dispute between Mr Loeb and the board is thought to be that of
competitive marketing, where Sotheby's sacrifice revenues in favour
of securing a larger share of headline-grabbing lots. The most
conspicuous examples of this are where both Sotheby's and arch
rivals Christie's do battle over trophy consignments in the fields
of Contemporary and Modern art, agreeing not only to waive all
vendors' fees, but to share the buyer's premium with sellers as
well.

The result can be record hammer prices
but a risk of little or no profit for the auctioneer.

Guarantees

Other competitive marketing strategies
include the issuing of guarantees, where consignors are paid out
regardless of whether a lot sells or not - agreements usually
funded by the auction houses' financial services divisions in the
past. This brought rich returns for auctioneers while markets rode
high, as they banked a higher share of the profits above the
guarantee level when items did sell, but it cost them dear when
Contemporary and Modern art prices dropped almost overnight in
2008, leaving them with an extensive hangover of guarantees on
forthcoming sales.

As the market has recovered, Sotheby's
and Christie's have tended to offset such risks by issuing
third-party guarantees, known as irrevocable bids, where a wealthy
collector agrees to buy a lot if it does not reach the guarantee
level in return for a share of the profits if it does rise above
it.

How such strategies will change under
the new capital structures and with the company's promise to bring
shareholders a better return is not yet evident, but the board has
pledged that "potential projects will be measured against an
expected return on invested capital over the life of the
investment" and says that "going forward, the company intends to
return any excess capital to shareholders on an annual basis,
primarily through a special dividend".

A 20% return on investment target on
the auction business won't make competition against privately-owned
Christie's any easier as it is likely to leave Sotheby's with less
room for manoeuvre.

Sotheby's have also reiterated that
they are considering selling their New York headquarters - although
there is less enthusiasm for ditching their Bond Street rooms in
London - while chief financial officer Patrick McClymont said of
the recent review: "The plan was shaped after much-welcomed input
and feedback from our investors and we are committed, as always, to
continue that dialogue."

Meanwhile Mr Ruprecht remains
confident about the future, saying: "The message we are delivering
is clear - we are returning meaningful capital to our shareholders
now and in the future and establishing a framework that puts
Sotheby's in the strongest position to compete and win in this
marketplace while delivering value to our clients."

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